Tensions between Russia and Ukraine Worry Investors

Over the weekend, tensions escalated between Russia and Ukraine as Russian forces invaded and took complete operational control of the Crimean peninsula. Crimea is a strategic peninsula jutting into the Black Sea that was gifted to Ukraine by a Soviet leader 60 years ago. In Crimea, Russia leases the Sevastopol port (through the year 2042) in exchange for a 30-percent reduction in the price of Russian gas that Ukraine depends on for much of its energy needs. This port has been crucial to Russia's navy over the years, providing quick access to the eastern Mediterranean, Balkans and Middle East.

In addition to the strategically important Crimean peninsula, the country of Ukraine is important to Russia for many reasons:

Russia wants Ukraine to be part of its new Eurasian Economic Union, based in Moscow. If Ukraine signed on with the European Union (EU), thus reducing trade barriers to Europe, it would have been a blow to the Russian plan.

Russia fears that if Ukraine and the EU reduced trade barriers, European companies could use Ukraine as a way to flood Russia with cheaper goods.

Integration with Europe could be a prelude to integration with NATO.

Much of the natural gas that Russia sells to Europe flows across Ukraine's pipeline system.

As a result of the tension and increased rhetoric between Russia, the United States, and European nations, global stock markets have sold off dramatically. Primarily, investors are concerned about the following:

The potential extent of the conflict.

The disruption of oil and wheat shipments from the region.

The Russian Central Bank's decision to raise interest rates.Â

While the conflict has been limited so far, investors worry that the EU and the United States might intervene with force or economic sanctions. Russia, as the world's largest oil producer, and Ukraine, as a major exporter of wheat, could face disruptions in shipments due to the conflict or economic sanctions. Lastly, the Russian Central Bank's decision to raise its main interest rate the most since 1998 further worried investors for its longer term ramifications. The one-week auction rate was increased from 5.5 percent to 7 percent in order to strengthen the Russian Ruble. The Russian Ruble has dramatically weakened on the conflict, raising prices of imported goods to Russia and, consequently, potentially driving inflation higher.

While global markets, with the exception of commodities and U.S. Treasuries, have struggled during the recent events, we remain committed to our 2014 market prognosis of mid- to upper-single digit returns and increased volatility. The news about Russia and Ukraine are troubling, however, there are still some positive tailwinds likely to benefit equities. These include another quarter of solid corporate earnings, improvement in global economies, and still low interest rates. Clearly market volatility has escalated, which is not a surprise, given the recent geopolitical events, however, mitigating against it in portfolios is of utmost importance. With this in mind, we continue to target increased diversification and the use of liquid alternative investments which have historically zigged when the markets have zagged.

This information compiled by Cetera Financial Group is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The information has been selected to objectively convey the key drivers and catalysts standing behind current market direction and sentiment.

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